10 Best Ways to Create Shareholder Value from Supplier Relationships

In any business, the creation of shareholder value is fundamentally driven by profitability and return on capital employed. Greater profitability is a function of revenue growth and cost reduction, while return on capital employed can be maximized by more efficient use of both working and fixed capital. Leading manufacturing companies successfully manage their supplier relationships to optimize these performance drivers and create sustained shareholder value.

Specifically, best-in-class OEMs are enhancing their supplier relationships to grow revenue through successful new product introductions, reduce costs through total-cost sourcing strategies, and improve capital efficiency through inventory reductions and reduced asset intensity. To accomplish these objectives, manufacturers are investing in a new breed of supply chain professional and providing them with practices and technologies that enable them to build stronger and more valuable supplier relationships.

Here are 10 best practices that manufacturers should consider to drive greater shareholder value from their supplier relationships.

1. Increase Collaboration with Suppliers…For Real Active, ongoing collaboration is a powerful way to drive value in supplier relationships. Effective collaboration can increase revenue while also lowering cost.

For new products, enable suppliers to work closely with engineering early in the process, working in partnership on product design and identifying cost improvement opportunities before designs are finalized. For existing products, work with suppliers to determine material and design changes that will maintain or improve margins as component costs rise or prices fall. Suppliers can be a valuable source of innovation – they possess deep knowledge and domain expertise about the components they produce – so tap into this knowledge and use it to your advantage.

To be effective, your sourcing team must possess strong collaboration skills, along with tools that allow them to work efficiently and effectively with a broad network of suppliers. A sourcing organization without the right people or collaboration systems will struggle to keep up with the competition. Supplier collaboration technology needs to be at the top of your “request for investment” list.

2. Improve Your Understanding of Every Supplier, Including Their Motivations Groundbreaking collaboration goes beyond groups of people working together more efficiently. You need to understand how your suppliers view you and the role you play in the long-term success of their company. Are you the manufacturer that provides the core volumes that the supplier relies on? Is your business high margin or low margin to them? How easy is it for them to replace you?

Second, you also need to assess their willingness to work with you. Are they just a “vendor,” or are they interested in creating a partnership?

Engage in candid discussions with suppliers to determine what is possible and what is off-limits. And do not be afraid to ask them to reveal the target profit margin for your business. The more information you have, the better you will be positioned to create a win-win relationship.

Finally, your suppliers must be willing to reveal any sub-tier supply relationships and how those relationships could impact your business. Make them co-responsible for traceability. If they resist or claim “it’s too difficult,” look for someone else.

3. Require Full Visibility into Total Cost Combined with effective collaboration and a deeper understanding of your suppliers, visibility into total cost during quoting enables you to make the best sourcing decisions. As such, when it is time to review supplier proposals you need to let them know that full transparency is a requirement.

To make the best sourcing selection, you must understand component, transit, finance, and other drivers of total cost. You will need technology that enables you to compare each supplier side-by-side, line-by-line, so you can understand the comparative cost of each quoted item. You will then be in position to have detailed discussions with suppliers on areas where they are “out of line” with the other bidders.

Exploring outliers quickly and early in the process is a great way to make sure every bid is “apples to apples.” In the end, you will find yourself in position to negotiate line-by-line until you get the best value for your money. And one final note: If Excel is your tool of choice for the review and analysis process, you will soon fall greatly behind the competition. Spreadsheets have become far too cumbersome and inefficient compared to powerful direct material sourcing software.

4. Understand Each Supplier’s Impact on Your Working Capital Costs One of the major components of a total cost analysis is to understand the cost of working capital associated with each sourcing choice. Every supplier option ties up a certain amount of working capital – capital that the CFO would prefer to be utilizing elsewhere.

Longer lead times and higher inventories tie up significantly more working capital and lead to more scrutiny of “long distance” suppliers. In fact, depending on your company’s needs for working capital, the finance department may prefer that you choose a different set of suppliers. That is why it is critical that your total cost formulas include a “cost of working capital” for every supplier bid. Get Finance involved in the process early and ask for its input on the final selection.

5. Become a Master of Risk Assessment Effective risk management goes well beyond tracking the financials and credit worthiness of your suppliers. For each supplier you need to understand what risks you are taking on if there is an event that may impact inventory levels. Besides supplier financial issues, natural and man-made disasters, geopolitical problems, human rights concerns, and other unforeseen circumstances are all examples of events that could shut down your production lines.

Best-in-class manufacturers are building primary and secondary supply relationships that provide them with the flexibility they need to react to such disruptions. They work closely with suppliers and trading partners to assess potential bottlenecks and build contingency plans that keep production flowing at a reasonable cost. Those who master contingency planning will take a great leap to the front of the field. Part of the mastery is gaining insight into Tier 2, 3, etc. suppliers. Your Tier 1 supplier must help you enable this enhanced visibility.

6. Put Assessing Capacity on Your Shoulders One component of mastering risk assessment is capacity analysis. There is no worse situation for a supply chain professional than to see a production line come to a halt because materials are not available. A supplier’s capacity must be evaluated on an ongoing basis – from quoting through the entire supply lifecycle – to ensure it can keep pace with your projected demand.

Best-in-class manufacturers have placed the responsibility of computing a supplier’s capacity on their own shoulders. One way of doing this is to have your suppliers complete a capacity questionnaire, collecting information such as shift characteristics, production ramp-up time, equipment rates, and labor utilization. Model the data, including an assessment of each supplier’s ability to make up downtime without impacting the delivery schedule or quantity of your shipment. Based on the model, estimate each supplier’s capacity.

7. Take a Bi-directional Approach to Supplier Feedback There is a lot written on supplier feedback, but here are some practices that really seem to be having a significant impact.

First, performance feedback meetings need to be more frequent than annual. Leading OEMs are doing quarterly or even monthly meetings with key (or struggling) suppliers. Make sure struggling suppliers have clear, written documentation regarding corrective actions that must be implemented. And feedback should not be given in only one direction but rather more of a bi-directional review. What bottlenecks are you creating for the supplier? What changes on your end might improve performance and total cost?

Formally capture all supplier ideas and review them frequently. Also, consider bringing your key suppliers together once a year for a supplier summit. Yes, it all comes back to collaboration.

8. “‘Right-size” Your Supplier Network Determining the “right” number of suppliers is an intricate task. Increasing costs related to compliance and profiling, as well as volume pricing benefits, push some manufacturers to reduce their number of suppliers. On the other hand, risk management, contingency planning, and the need to create leverage with certain segments of suppliers push others to have more suppliers. What is the right number for you?

Best-in-class companies lean on the side of “more is better” – but up to a certain point. When your geographic clustering analysis shows too much volume from a particular region, you need to be prepared with less concentrated alternatives and strongly consider re-distributing the sourcing allocations. You also need to be prepared to quickly replace suppliers in the event of any failure. Be sure to determine which suppliers would be hard to replace and take the time to find alternatives.

Conduct a segmentation exercise to find similar suppliers that are interchangeable. Finally, be sure to merge your supplier initiatives when possible, tying supplier risk, diversity, and development together under one umbrella. This will help to truly optimize the size of your network.

9. Your “People Skills” Need to Evolve Today’s supply chains are very different than those of a decade ago. There is a lot more emphasis on successful collaboration – both with suppliers and across other departments within your company. Heavy emphasis must be placed on hiring/developing people with effective communication skills. Strong business acumen is also an extremely important characteristic for your professionals.

Negotiations now go well beyond price, and today’s supply chain and sourcing people must be capable of seeing the bigger picture. Your staff needs to be comfortable conducting more complex analyses and utilizing technology to assess alternatives and make recommendations based on specific trade-offs. Being able to explain the pros and cons of different sourcing scenarios is critical. Adjust your hiring and training practices to address this evolution.

10. Don’t Forget the Technology Upgrading your people and processes alone will not put you ahead of your competition. You need to provide them the proper tools to do the job. Sourcing software is changing the game for supply chain professionals. It now goes well beyond simply managing the RFP process, enabling collaboration in a secure environment and providing much greater visibility into total costs.

Due to the increasingly popular software-as-a-service (SaaS) model, such software is now much more affordable and provides a quick payback period. Explore your options and budget for a solution. It will quickly pay off.

Greg Anderson is president of Directworks, a software platform specifically built for engaging suppliers and sourcing direct materials. Greg has 25 years of experience in enterprise software, strategic sourcing, manufacturing, and supply operations. Before becoming president of Directworks in 2011, he was the Wexford, Pa.-based company’s executive vice president of sales and marketing. Earlier in his career, he had roles at Tenzing Consulting, SmartOps, FreeMarkets, GE, and PPG. Greg holds a bachelor of science degree in engineering from Alfred University.

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